GoKawiilTautologies have a bad reputation. They are often dismissed as mere definitions. People get scolded for trying to draw causal implications from tautologies. They are viewed as being simplistic.
It is true that tautologies are (implicit) definitions. It is true that they are simplistic. It is true that they have no direct causal implication. Nonetheless, tautologies are one of the most important parts of economics. They promote clear thinking and thus make it easier to see how the economy functions. They do not establish causal relationships, but they make it easier to see which causal relationships are plausible and which are not.
Consider this rather banal tautology:
The number of shares of stock sold equals the number of shares of stock purchased.
I don’t know how many times I’ve heard the news media attribute a sharply decline in stock market indices to a “selling wave” hitting Wall Street: The Dow fell 800 points as investors sold 15.4 billion shares of stock. Yes, but investors also purchased 15.4 billion shares of stock. Two sides of the same coin:
At one time, the stock market was closed at night and yet market indices often changed dramatically, even without a single share being traded. A hundred years ago, the Dow might close one day at 243 and open the following morning at 227, reflecting bearish overnight news. In that case, it is fairly obvious that the market moves on new information, not trading activity. To the extent that trading activity has any impact on prices, it is due to what the trading reveals about information held by various participants in the market.
Here I’ll look at six tautologies:
M*V = P*Y = NGDP M = k*P*Y = NGDP k*NGDP Saving = Investment Aggregate quantity demanded = aggregate quantity supplied GDP = GDI (gross domestic income) [Domestic] Saving - investment = Current account balance
Proponents of various policies often use tautologies as a sort of intuition pump—a way of making their model seem more plausible. I will show that the first (and most famous) tautology listed above is actually the least useful, whereas each of the other five offer valuable insights into macroeconomics
Part 1: Monetarism
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