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Epistemological difficulties with neoclassical economics

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This paper addresses several related epistemological difficulties with the neoclassical micro‐foundations of standard economics, and explores what these difficulties imply about the recent dominance of these micro‐foundations in both economic research and applied policy and finance settings. Building on the crucial distinction made by Knight and Keynes between calculable risk and uncertainty, the paper makes a further distinction between two types of uncertainty – epistemological and ontological. It argues that standard economics underestimates how problematic the interface between theory and reality is for both economic agents and social scientists, and overlooks the impossibility of knowing the future yet to be created by innovation and the freedom to choose. The paper outlines alternative micro‐foundations that capture how agents use imagination and narratives alongside market coordination to cope with uncertainty and construct the future. It also explains several research and policy implications of taking uncertainty seriously – the limits of prediction, the incoherence of many bolt‐on amendments to neo‐classical theory, the dangers of analytical monocultures, and the importance of discourse analysis and pluralism in modelling. Recognition that neo‐classical models are inappropriate for dealing with problems characterised by widespread innovation and uncertainty should augment rather than reduce the undoubted value of these same models in many other areas of analysis.

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