Category Archives: Economic Policies

How Economic Models Can Shape Economic Policy

Oxfordjournals’ Christian Broda is an economist that studies macroeconomic issues concerning trade. Some of his work has explored the relationship between the variety of available goods and pricing. He also published a paper looking at the long-held assumption that prices increase when goods cross an international border. Assumptions are a critical part of developing an economic model used to test a theory.

A theory is an explanation of why, or how something occurs. You can have a theory of why your dog comes running whenever he hears the can opener, or one seeking to explain why wages are low during periods of high unemployment. To test an economic theory, economist build models that mimic the behavior of the market they are trying to understand. The model could be a simple dataset, or an elaborate real-time, real-life scenario. In addition to the assumptions and data, a model must also have identified variables. These variables can be differing levels of supply or resource availability. Whatever the variable is, it must be controllable and measurable so that the change in one variable can be measured against the other variables being studied.

Economist, like Christian Broda also uses datasets as models to measure how one variable (spending for example) relates to another variable (like receipt of a tax stimulus payment). Broda was a tenured Professor of Economics at the University of Chicago. He earned a Ph.D. in economics at the Massachusetts Institute of Technology, worked as a researcher and analyst for the Federal Reserve Bank of New York, and has edited a number of peer-reviewed academic journals in economics. His latest position is that of managing director of Duquesne Capital Management, a New York City hedge fund.

Broda and his co-author found that household spending rose in the weeks immediately after receiving a tax stimulus check, growing the economy by some 2.4% in that quarter, and predicted an even larger 4.1% increase for the next quarter. The assumption that Broda was testing was the traditional economic theory that predicted most of the some $100 billion in rebates the US government issued would be saved, and thus not doing anything to grow the short-term economy. The dataset that Broda and his colleagues used was from the ACNielsen’s Homescan database which accumulates buying information from scanned bar codes from a number of grocery, drug and mass merchant stores.

By applying a standard methodology to compare week-to-week spending, patterns quickly emerged that proved the traditional assumption was incorrect, and that most of the stimulus money was being spent. That spending in turn helped to correct a struggling national economy and started the correction that is still growing our economy.

By doing research, developing models, and testing both new and long-held assumptions, economist like Broda are helping shape future economic policies.