How Effective is Economic Theory?

Economists’ testing procedures have changed dramatically in recent decades. Rather than rely on multiple regression, economists often look for “natural experiments.” For example, in assessing the quality of charter schools, some economists have used the fact that in some cases charter-school students are selected by lottery from qualified applicants. This creates a “natural experiment,” in which the students who were chosen in the lottery to attend a charter school can be compared to presumably similar students who participated in the lottery but were not chosen and therefore wound up in public schools.

In addition, some economists now use actual experiments. They put experimental subjects in situations that involve economic decision-making and test how subjects respond under varying experimental conditions. This approach has been particularly helpful in behavioral economics, where it borrows key techniques from experimental psychology. Note, however, that neither actual experiments nor natural experiments are readily applicable to macroeconomics. The problem of arriving at reliable tests of macroeconomic hypotheses is still unsolved.