Imperfect Knowledge Economics: Exchange Rates and Risk
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Imperfect Knowledge Economics: Exchange Rates and Risk
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Overview
Posing a major challenge to economic orthodoxy, Imperfect Knowledge Economics asserts that exact models of purposeful human behavior are beyond the reach of economic analysis. Roman Frydman and Michael Goldberg argue that the longstanding empirical failures of conventional economic models stem from their futile efforts to make exact predictions about the consequences of rational, self-interested behavior. Such predictions, based on mechanistic models of human behavior, disregard the importance of individual creativity and unforeseeable sociopolitical change. Scientific though these explanations may appear, they usually fail to predict how markets behave. And, the authors contend, recent behavioral models of the market are no less mechanistic than their conventional counterparts: they aim to generate exact predictions of "irrational" human behavior.
Frydman and Goldberg offer a long-overdue response to the shortcomings of conventional economic models. Drawing attention to the inherent limits of economists' knowledge, they introduce a new approach to economic analysis: Imperfect Knowledge Economics (IKE). IKE rejects exact quantitative predictions of individual decisions and market outcomes in favor of mathematical models that generate only qualitative predictions of economic change. Using the foreign exchange market as a testing ground for IKE, this book sheds new light on exchange-rate and risk-premium movements, which have confounded conventional models for decades.
Offering a fresh way to think about markets and representing a potential turning point in economics, Imperfect Knowledge Economics will be essential reading for economists, policymakers, and professional investors.
Product Details
| ISBN-13: | 9780691261157 |
|---|---|
| Publisher: | Princeton University Press |
| Publication date: | 09/26/2023 |
| Sold by: | Barnes & Noble |
| Format: | eBook |
| Pages: | 366 |
| File size: | 6 MB |
About the Author
Read an Excerpt
Imperfect Knowledge Economics
By Roman Frydman Michael D. Goldberg Princeton University Press
Copyright © 2007 Princeton University Press
All right reserved.
ISBN: 978-0-691-12160-4
Chapter One Recognizing the Limits of Economists' Knowledge
I prefer to use the term "theory" in a very narrow sense, to refer to an explicit dynamic system, something that can be put on a computer and run. This is what I mean by the "mechanics" of economic development-the construction of a mechanical, artificial world, populated by the interacting robots that economics typically studies. Robert E. Lucas, Jr., Lectures on Economic Growth, p. 21
Policymakers often have to act, or choose not to act, even though we may not fully understand the full range of possible outcomes, let alone each possible outcome's likelihood. As a result, ... policymakers have needed to reach to broader, though less mathematically precise, hypotheses about how the world works. Alan Greenspan, "Risk and Uncertainty in Monetary Policy," American Economic Review, p. 38
1.1. The Overreach of Contemporary Economics
On the occasion of his 1974 Nobel lecture, Friedrich Hayek appealed to fellow economists to resist the "pretence of exactknowledge" in economic analysis. Drawing on his prescient analysis of the inevitable failure of central planning, Hayek warned against the lure of predetermination: no economist's model would ever render fully intelligible the causes of market outcomes or the consequences of government policies. Decades later, experience as a Federal Reserve chief led Alan Greenspan to concur with Hayek. He told the economists assembled at a 2004 meeting of the American Economic Association that central banking requires creativity. Central bankers, just as all individuals, act in a world of imperfect knowledge; hence, they can comprehend neither "the full range of possible [market] outcomes" nor their likelihoods.
In contrast to these skeptical views, contemporary economists have been much less circumspect about the ability of economic analysis to uncover the causal mechanism that underpins market outcomes. In fact, over the past three decades, economists have come to believe that, to be worthy of scientific status, economic models should generate "sharp" predictions that account for the full range of possible market outcomes and their likelihoods. To construct such models, which we refer to as fully predetermined, contemporary economists must fully prespecify how market participants alter their decisions and how resulting aggregate outcomes unfold over time. By design, contemporary models rule out the importance of individual creativity in coping with inherently imperfect knowledge and unforeseen changes in the social context.
In modeling individual decision making and market outcomes, economists make use of a variety of assumptions and insights. The vast majority appeal to a set of a priori assumptions that putatively characterize how "rational" individuals make decisions. In contrast to these conventional economists, the increasingly influential behavioral economists appeal to empirical observations of how individuals "actually" behave. However different the conventional and behavioral approaches may appear, they share one key feature: both instruct economists to search for fully predetermined models of the causal mechanism that underpins change. Because of this common feature, we regard the conventional and behavioral approaches as branches of the contemporary approach.
Economists fully predetermine their models by first representing individual decision making in terms of causal variables, although they sometimes leave the particular set of causal variables unspecified. They also usually specify a set of qualitative conditions that restrict how the causal variables enter their representations of individual behavior at an arbitrary "initial" point in time. While their representations at the initial point in time are qualitative, the insistence on sharp predictions of change leads economists to impose restrictions that relate exactly the properties of their representation at all points in time, past and future, to the properties of the representation at the initial point in time.
Contemporary models usually involve random error terms, the properties of which are also fully prespecified. These standard probabilistic representations imply a highly restricted view of uncertainty as mere random deviations from a fully predetermined model of behavior. Though they may appear to be different from their deterministic counterparts, contemporary probabilistic models represent market participants as "robots" who revise their behavior according to rules that are prespecified by an economist.
The insistence on models that fully prespecify change has led many economists to an extreme position concerning how policymaking should be conducted. Academic economists have argued that discretion on the part of policymakers is likely to result in "inferior" (according to a given "social welfare" criterion) macroeconomic performance. The belief in the scientific status of such conclusions has been so strong that leading economists have advocated far-reaching institutional changes to eliminate all discretion on the part of policymakers. In a seminal paper, for example, Finn Kydland and Edward Prescott advocate
institutional arrangements which make it difficult and time-consuming to change the policy rules in all but emergency situations. One possible institutional arrangement is for Congress to legislate monetary and fiscal policy rules and these rules to become effective only after a 2-year delay. This would make discretionary policy all but impossible. (Kydland and Prescott, 1977, p. 487)
The trouble with such proposals is that, in reducing policymakers to passive executors of rules based on a fully predetermined economic model, they ignore the multifarious ways in which economies change over time. As Governor Mervyn King of the Bank of England once put it, "Our understanding of the economy is incomplete and constantly evolving, sometimes in small steps, sometimes in big leaps." Because neither economists nor policy-makers can adequately prespecify all possible outcomes and their likelihoods, Governor King continued,
Any monetary policy rule that is judged to be optimal today is likely to be superseded by a new and improved version tomorrow.... So learning about changes in the structure of the economy lies at the heart of the daily work of central banks. To describe monetary policy in terms of a constant rule derived from a known model of the economy is to ignore this process of learning. (King, 2005, pp. 8-10)
Although central bankers are always on guard for "changes in the structure of the economy," contemporary models presume that such changes are unimportant for understanding market outcomes and the consequences of government policies.
1.2. The Aim of This Book
This book arose from our conviction that the contemporary approach to economic analysis of market outcomes is fundamentally flawed. The practice of fully prespecifying the causal mechanism that underpins change leads to insuperable epistemological problems in modeling aggregate outcomes and lies at the root of contemporary models' failure to explain these outcomes in many markets. Our critique rests on the premise that the causal mechanism that underpins the way market participants alter their decisions is not fully intelligible to anyone, including economists or market participants themselves. We hope to persuade our colleagues that the exclusive pursuit of models that "can be put on the computer and run" has been misguided; the view that only such models are "scientific" has impeded economic research.
Our goal is to contribute to the development of a more insightful approach to modeling market outcomes and the consequences of government policies. As the first step toward such an approach, we place imperfect knowledge on the part of market participants and economists at the center of our analysis. Our proposed approach, which we call Imperfect Knowledge Economics (IKE), does not seek to explain exactly how market outcomes unfold over time. That is, we eschew the contemporary practice that relates change in outcomes precisely to a set of causal factors that has, in turn, been pre-specified by an economist.
Following the tradition of early modern economics, IKE constructs its models of aggregate outcomes by relating them to individual behavior. Like the contemporary approach, it represents this behavior mathematically. But IKE attempts to come to terms with early modern economists' justified modesty about how complete their representations of individual behavior could be. As in any scientific theory, IKE must presume that purposeful behavior exhibits regularities, even if these regularities are context-dependent. However, IKE explores the possibility that these regularities, the ways in which market participants make and alter their decisions, may be formalized with qualitative conditions. In contrast to both conventional and behavioral models, these conditions only partially predetermine economists' representations of change.
IKE solves an intractable epistemological problem that is inherent to fully predetermined, microfounded models of market outcomes. These models, which aim to explain market outcomes on the basis of explicit representations of individual behavior, have become hallmarks of contemporary economics. Yet these models, in both their conventional and behavioral forms, are internally inconsistent in a world of imperfect knowledge: the aggregate outcomes that they predict deviate systematically from their representations of market participants' forecasts of those outcomes. Recognizing the imperfection of knowledge-the fact that no one, including economists, can fully prespecify change-is the key to solving the inconsistency problem that has plagued fully predetermined models. IKE begins with this premise.
In contemporary models, change in the composition of the set of causal variables and in their influences on outcomes is fully prespecified. By contrast, partially predetermined models do not fully specify which causal variables may become relevant in the future or how these variables may enter an economist's representation. By design, IKE models do not imply sharp predictions of change, but they do generate qualitative implications. Moreover, we do not abandon the key aim of all scientific endeavor: IKE restricts its models sufficiently to enable an economist to distinguish empirically among alternative explanations of economic phenomena. At the same time, opening economics to models that generate only qualitative predictions is important to understanding salient features of the empirical record that extant approaches have found anomalous.
We use the foreign exchange market as a testing ground for the development of our alternative approach. We find that IKE sheds new light on features of the empirical record that have long resisted adequate explanations by fully predetermined models. We construct IKE models that deliver new, empirically relevant explanations of exchange rate dynamics, particularly their persistent and often large misalignments, as well as movements in the market premium (that is, excess return) on holding a speculative asset, such as foreign exchange. Once we understand market outcomes with IKE models, some of the important "findings" that have been reported in the literature are rendered artifacts of a world viewed through the prism of fully predetermined models.
1.3. Contemporary Models in a World of Imperfect Knowledge
Our critique of the contemporary approach rests on the crucial premise that market participants and economists have only imperfect knowledge of the causal mechanism that underpins market outcomes. We recognize that, despite considerable effort by philosophers, the meaning of the term knowledge, let alone imperfect knowledge, cannot be encapsulated easily. In this book, we make use of a relatively narrow definition of imperfect knowledge that is closely tied to the idea of a fully predetermined model in contemporary economics. We refer to knowledge as imperfect if no one has access to a fully predetermined model that adequately represents, as judged by whatever criteria one chooses, the causal mechanism that underpins outcomes in all time periods, past and future. Because knowledge is imperfect, individuals are not constrained to view the world through the prism of a common model. Consequently, one of the main premises of our approach is that market participants, who act on the basis of different preferences, constraints, and causal factors, will likewise adopt different strategies in forecasting the future as well as the consequences of their decisions.
According to Hayek (1945), such a division of knowledge among market participants is the key feature that distinguishes the "rational economic order" from an "optimal" allocation of resources by a single individual:
The economic problem of society is ... not merely a problem of how to allocate "given" resources-if "given" is taken to mean given to a single mind which deliberately solves the [resource-allocation] problem.... It is rather a problem of how to secure the best use of resources known to any of the members of society, for ends whose relative importance only these individuals know. Or, to put it briefly, it is a problem of the utilization of knowledge which is not given to anyone in its totality. (Hayek, 1945, pp. 519-20, emphasis added)
An individual's forecasts of future market outcomes underpin her purposeful choices among alternative uses of her resources. But, as Hayek indicated, market participants' choices and, hence, market outcomes, arise out of a division of knowledge whose totality remains opaque to any one individual. As economic knowledge is diffuse and evolves in ways that cannot be fully foreseen, economists' fully predetermined models cannot adequately represent the causal mechanism that underpins purposeful actions, regardless of whether these actions are motivated by self-interest or other objectives.
Nevertheless, we suspect that some of our colleagues may find our critique of the contemporary approach uncompelling. They might argue that economics, like every other field of human inquiry, must abstract from many features of the real world, and that its fully predetermined models are simply particularly bold abstractions. In response to the claim that the assumptions of their models are unrealistic, economists often invoke Milton Friedman's argument:
The relevant question to ask about the "assumptions" of a theory is not whether they are descriptively "realistic," for they never are, but whether they are sufficiently good approximations for the purpose in hand. And this question can be answered only by seeing whether the theory works[,] which means whether it yields sufficiently accurate predictions. (Friedman, 1953, p. 15)
(Continues...)
Excerpted from Imperfect Knowledge Economics by Roman Frydman Michael D. Goldberg
Copyright © 2007 by Princeton University Press. Excerpted by permission.
All rights reserved. No part of this excerpt may be reproduced or reprinted without permission in writing from the publisher.
Excerpts are provided by Dial-A-Book Inc. solely for the personal use of visitors to this web site.
Table of Contents
Foreword by Edmund S. Phelps xiiiAcknowledgments xxiList of Abbreviations xxiii
PART I: From Early Modern Economics to Imperfect Knowledge Economics 1
Chapter 1: Recognizing the Limits of Economists’ Knowledge 3The Overreach of Contemporary Economics 3The Aim of This Book 6Contemporary Models in a World of Imperfect Knowledge 8The Non-Fully Intelligible Individual 13IKE Models 14IKE of Exchange Rates and Risk 20Imperfect Knowledge and Policy Analysis 23From Contemporary Economics to Imperfect Knowledge Economics 24
Chapter 2: A Tradition Interrupted 26The Stranglehold of the Contemporary Approach 27The Non-Fully Intelligible Individual in Early Modern Economics 34Jettisoning Insights from Early Modern Analysis 38
Chapter 3: Flawed Foundations: The Gross Irrationality of "Rational Expectations" and Behavioral Models 41Conventional and Behavioral Representations of Preferences with Uncertain Outcomes 42Self-Interest, Social Context, and Individual Decisions 45Individual Behavior and Aggregate Outcomes 48From Early Modern to Phelps's Microfoundations 49"Rational Expectations": Abandoning the Modern Research Program 49Diversity of Forecasting Strategies: The Gross Irrationality of "Rational Expectations" 51Inconsistency in Behavioral Models 54
Chapter 4: Reconsidering Modern Economics 58Sharp Predictions and Fully Predetermined Representations 60Qualitative Predictions of Change in Fully Predetermined Models 65IKE Models of Change 66IKE Causal-Transition Paths 70Appendix 4.A: Fully Prespecifying Change in the Social Context 71Appendix 4.B: Modeling Change in Outcomes with Fully Predetermined Probabilistic Rules 72
Chapter 5: Imperfect Knowledge Economics of Supply and Demand 74Fully Predetermined Representations of Supply and Demand 76Supply and Demand Analysis in Contemporary Models 79History as the Future and Vice Versa 81Supply and Demand Analysis in IKE Models 82Irreversibility of History in IKE Models 86
PART II: "Anomalies" in Contemporary Models of Currency Markets 89
Chapter 6: The Overreach of Contemporary Models of Asset Markets 91Describing Forecasting Behavior 92Fully Predetermined Representations of Forecasting Strategies and Their Revisions 93Modeling Economic Change with a Time-Invariant Structure 96Models with Fully Predetermined Changes in Structure 101Prespecifying Collective Beliefs in Currency Markets: Bubble Models 104Appendix 6.A: A Conventional Macroeconomic Model 107
Chapter 7: The "Puzzling" Behavior of Exchange Rates: Lost Fundamentals and Long Swings 113Exchange Rates and Macroeconomic Fundamentals: The Futile Search for a Fully Predetermined Relationship 114The Exchange Rate Disconnect Puzzle: An Artifact of the Contemporary Approach 120Macroeconomic Fundamentals over Long Horizons: Self-Limiting Long Swings 121Can REH Models Explain Long Swings in Exchange Rates? 126REH Bubble Models and the Pattern of Long Swings in Real World Markets 131Lost Fundamentals and Forsaken Rationality: Behavioral Models 134
Chapter 8: "Anomalous" Returns on Foreign Exchange: Is It Really Irrationality? 138The Record on Foreign Exchange Returns 140An REH Risk Premium? 144Is Irrationality the Answer? 147The Forward-Discount "Anomaly": Another Artifact of the Contemporary Approach 151
PART III: Imperfect Knowledge Economics of Exchange Rates and Risk 153
Chapter 9: Modeling Preferences in Asset Markets: Experimental Evidence and Imperfect Knowledge 155Prospect Theory and Speculative Decisions 159Endogenous Loss Aversion and Limits to Speculation 167Experimental Evidence and Behavioral Finance Models 170Moving beyond Behavioral Finance Models 173IKE Representations of Preferences in Asset Markets: Individual Uncertainty Premiums 176Imperfect Knowledge and Preferences over Gambles: Endogenous Prospect Theory 179Appendix 9.A: Limits to Speculation under Endogenous Loss Aversion 180
Chapter 10: Modeling Individual Forecasting Strategies and Their Revisions 183Theories Consistent Expectations Hypothesis 185IKE Representations of Revisions: An Overview 191Trend Restriction 192Conservative Revisions 194Revisions of the Expected Unit Loss 197
Chapter 11: Bulls and Bears in Equilibrium: Uncertainty-Adjusted Uncovered Interest Parity 203Momentary Equilibrium in the Foreign Exchange Market 204Equilibrium under Risk Aversion 205Uncertainty-Adjusted UIP 210
Chapter 12: IKE of the Premium on Foreign Exchange: Theory and Evidence 218An IKE House Money Model: Time-Varying Preferences 220An IKE Gap Plus Model: Autonomous Revisions in Forecasting Strategies 223Confronting the Gap Plus and House Money Models with Time-Series Data 225The Gap Plus Model and the Frequency of Sign Reversals 238Avoiding the Presumption of Gross Irrationality 241Appendix 12.A 242
Chapter 13: The Forward Discount "Anomaly": The Peril of Fully Prespecifying Market Efficiency 243Bilson-Fama Regression and the Forward Discount "Anomaly" 245Structural Instability of the BF Regression and the Gap Plus Model 246BF Regression and Market Efficiency 252
Chapter 14: Imperfect Knowledge and Long Swings in the Exchange Rate 258A Monetary Model 260Invariant Representations and an Unbounded Swing Away from PPP 266Fixed Policy Rules and Invariant Representations? 272An IKE Model of Exchange Rate Swings 272Conventional and Behavioral Views of Reversals 278Imperfect Knowledge and Self-Limiting Long Swings 279Appendix 14.A: Solution with an Invariant Representation 283Appendix 14.B: Exchange Rate Swings and Sticky Goods Prices 283
Chapter 15: Exchange Rates and Macroeconomic Fundamentals: Abandoning the Search for a Fully Predetermined Relationship 292Structural Change in the Causal Mechanism 295Macroeconomic Fundamentals and the Exchange Rate in the 1970s 297Are the Monetary Models Consistent with Empirical Evidence? 304Macroeconomic Fundamentals and the Exchange Rate in the 1980s 309Appendix 15.A: Description of Data 312
References 313Index 331
What People are Saying About This
If you have been puzzled by the difficulty of reconciling uncertainty with the equilibrium models that economists use to explain market outcomes, this is the right book to read and reread. It launches a new approach, Imperfect Knowledge Economics, which highlights the long-recognized failure of prespecified general equilibrium modeling to account for the behavior of agents under changing conditions. Frydman and Goldberg are thus proposing models that are able to generate robust qualitative predictions, leading to a better understanding of short- and long-term swings in economic variables. In macroeconomics, there will undoubtedly be a 'before' and 'after' this book.
— Jean-Paul Fitoussi, president, l'Observatoire francais des conjonctures economiques, Paris
If you are looking for a way to escape from the Procrustean bed of rational expectations equilibrium—and, if you pay attention to real-world data, you should be—try reading this imaginative and intelligent book. It will amply repay your efforts.
— Alan S. Blinder, Princeton University
The centrality of expectations in understanding economic fluctuations has long been recognized, but their formation has not been adequately described. The rational expectation hypothesis was a bold and ingenious attempt, but it has proved empirically very far from satisfactory, most strikingly, in the field of foreign exchange markets, where the good documentation makes the failure easier to establish. Frydman and Goldberg open new doors by a more realistic understanding of the process of forming expectations; by recognizing that universal rules are intrinsically impossible, they exhibit a more creative understanding of the recent history of foreign exchange spot and futures markets.
— Kenneth J. Arrow, Nobel Prize-winning economist
This is a major and controversial contribution to macroeconomics that cannot fail to make an impact in several areas. Academics will read it for the comprehensive critique of much macroeconomic theory. More empirically motivated economists will look carefully at the rich scope for empirical analysis that the book opens up. Policymakers too will want to look at it—and will be relieved to see that they come off much better than the main authors of the rational expectations school.
— Niels Thygesen, University of Copenhagen
"This marvelous book by Frydman and Goldberg documents . . . invaluable insights of the 'early modern' theory of capitalism that were lost when the profession endorsed rational expectations equilibrium. . . . Happily for me and, I believe, for the profession of economics, this deeply original and important book gives signs of bringing us back on track—on a road toward an economics possessing a genuine microfoundation and at the same time a capacity to illuminate some of the many aspects of the modern economy that the rational expectations approach cannot by its nature explain."—from the foreword by Edmund S. Phelps, winner of the 2006 Nobel Prize in economics"Anyone who has ever studied markets for financial assets such as currencies knows that it is very difficult to explain, much less predict, short to medium term fluctuations. In their innovative new work, Imperfect Knowledge Economics, Roman Frydman and Michael Goldberg make a strong case that it would be particularly helpful to improve our understanding of how financial markets process new knowledge and information. In addition, the book offers a useful guide to understanding existing empirical exchange rate models."—Kenneth Rogoff, Harvard University"The centrality of expectations in understanding economic fluctuations has long been recognized, but their formation has not been adequately described. The rational expectation hypothesis was a bold and ingenious attempt, but it has proved empirically very far from satisfactory, most strikingly, in the field of foreign exchange markets, where the good documentation makes the failure easier to establish. Frydman and Goldberg open new doors by a more realistic understanding of the process of forming expectations; by recognizing that universal rules are intrinsically impossible, they exhibit a more creative understanding of the recent history of foreign exchange spot and futures markets."—Kenneth J. Arrow, Nobel Prize-winning economist"If you are looking for a way to escape from the Procrustean bed of rational expectations equilibrium—and, if you pay attention to real-world data, you should be—try reading this imaginative and intelligent book. It will amply repay your efforts."—Alan S. Blinder, Princeton University"If you have been puzzled by the difficulty of reconciling uncertainty with the equilibrium models that economists use to explain market outcomes, this is the right book to read and reread. It launches a new approach, Imperfect Knowledge Economics, which highlights the long-recognized failure of prespecified general equilibrium modeling to account for the behavior of agents under changing conditions. Frydman and Goldberg are thus proposing models that are able to generate robust qualitative predictions, leading to a better understanding of short- and long-term swings in economic variables. In macroeconomics, there will undoubtedly be a 'before' and 'after' this book."—Jean-Paul Fitoussi, president, l'Observatoire français des conjonctures économiques, Paris"The record of contemporary economics in explaining the behavior of exchange rates is a sorry one. Frydman and Goldberg make the foreign exchange rate problem the particular object of a searching critique of current macroeconomics and use it also as the vehicle for demonstrating how they would break its methodological 'stranglehold.' Their own alternative, imperfect knowledge economics, is systematically worked out and persuasively argued. It is my hope that the book will be widely read and debated."—Axel Leijonhufvud, UCLA and the University of Trento"This is a major and controversial contribution to macroeconomics that cannot fail to make an impact in several areas. Academics will read it for the comprehensive critique of much macroeconomic theory. More empirically motivated economists will look carefully at the rich scope for empirical analysis that the book opens up. Policymakers too will want to look at it—and will be relieved to see that they come off much better than the main authors of the rational expectations school."—Niels Thygesen, University of Copenhagen
This marvelous book by Frydman and Goldberg documents . . . invaluable insights of the 'early modern' theory of capitalism that were lost when the profession endorsed rational expectations equilibrium. . . . Happily for me and, I believe, for the profession of economics, this deeply original and important book gives signs of bringing us back on track—on a road toward an economics possessing a genuine microfoundation and at the same time a capacity to illuminate some of the many aspects of the modern economy that the rational expectations approach cannot by its nature explain.
— from the foreword by Edmund S. Phelps, winner of the 2006 Nobel Prize in economics
The record of contemporary economics in explaining the behavior of exchange rates is a sorry one. Frydman and Goldberg make the foreign exchange rate problem the particular object of a searching critique of current macroeconomics and use it also as the vehicle for demonstrating how they would break its methodological 'stranglehold.' Their own alternative, imperfect knowledge economics, is systematically worked out and persuasively argued. It is my hope that the book will be widely read and debated.
— Axel Leijonhufvud, UCLA and the University of Trento
Anyone who has ever studied markets for financial assets such as currencies knows that it is very difficult to explain, much less predict, short to medium term fluctuations. In their innovative new work, Imperfect Knowledge Economics, Roman Frydman and Michael Goldberg make a strong case that it would be particularly helpful to improve our understanding of how financial markets process new knowledge and information. In addition, the book offers a useful guide to understanding existing empirical exchange rate models.
— Kenneth Rogoff, Harvard University