Critique
Hartley, however, finds these reasons for representative agent modelling unconvincing. Kirman (1992), too, is critical of the representative agent approach in economics. Because representative agent models simply ignore valid aggregation concerns, they sometimes commit the so-called fallacy of composition. He provides an example in which the representative agent disagrees with all individuals in the economy. Policy recommendations to improve the welfare of the representative agent would be illegitimate in this case. Kirman concludes that the reduction of a group of heterogeneous agents to a representative agent is not just an analytical convenience, but it is "both unjustified and leads to conclusions which are usually misleading and often wrong." In his view, the representative agent "deserves a decent burial, as an approach to economic analysis that is not only primitive, but fundamentally erroneous."
A possible alternative to the representative agent approach to economics could be agent-based simulation models which are capable of dealing with many heterogeneous agents. Another alternative is to construct dynamic stochastic general equilibrium (DSGE) models with heterogeneous agents, which is difficult, but is becoming more common (Ríos-Rull, 1995; Heathcote, Storesletten, and Violante 2009; Canova 2007 section 2.1.2).
Chang, Kim, and Schorfheide (2011) make a point similar to that of Kirman, in the context of a DSGE model where agents are heterogeneous because of uninsured labor income risk. They estimate a representative-agent DSGE model on the basis of the aggregate data implied by their heterogeneous-agent economy, and show that the estimated coefficients are inconsistent with the true parameters of the heterogeneous economy. They point out that
- 'Since it is not always feasible to account for heterogeneity explicitly, it is important to recognize the possibility that the parameters of a highly-aggregated model may not be invariant with respect to policy changes.'
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