A Reconsideration of Microeconomic Foundations of Macroeconomics

Macroeconomics and microeconomics are fundamentally different. In microeconomics such as industrial organization and market for “lemon”, detailed analysis of motives and strategic behavior of micro-agents is necessary. However, in macroeconomics, such analysis is of no use. To understand macroeconomic phenomena, different methodologies are required. Research programs related to the standard microeconomic foundations of macroeconomics are on the wrong track. Taking RBC, Lucas rational expectations model, labor search theory, and the more recent HANK as examples, this paper shows that the standard microeconomic foundations of macroeconomics rest essentially on unrealistic representative agent assumptions and are not worthy of being called microeconomic foundations. It reconsiders Keynesian economics as an indispensable framework for the analysis of business cycles and argues for a stochastic approach in understanding important macroeconomic phenomena such as distributions of personal incomes and firm growth.