Understanding The Novel Classical Revolution

In the concern human relationship of the history of macroeconomic see I gave here, the New Classical counter revolution was both methodological as well as ideological inward nature. It was successful, I suggested, because likewise many economists were unhappy amongst the gulf betwixt the methodology used inward much of microeconomics, as well as the methodology of macroeconomics at the time.

There is a much simpler reading. Just equally the master copy Keynesian revolution was caused past times massive empirical failure (the Great Depression), the New Classical revolution was caused past times the Keynesian failure of the 1970s: stagflation. An example of this reading is inward this piece past times the philosopher Alex Rosenberg (HT Diane Coyle). He writes: “Back as well as then it was the New Classical macrotheory that gave the correct answers as well as explained what the thing amongst the Keynesian models was.”

I only do non think that is right. Stagflation is rattling easily explained: you lot only need an ‘accelerationist’ Phillips crimp (i.e. where the coefficient on expected inflation is one), addition a menses inward which monetary policymakers systematically underestimate the natural charge per unit of measurement of unemployment. You exercise non need rational expectations, or whatever of the other innovations introduced past times New Classical economists.

No doubtfulness the inflation of the 1970s made the macroeconomic condition quo unattractive. But I exercise non intend the basic appeal of New Classical ideas pose inward their improve predictive ability. The attraction of rational expectations was non that it explained actual expectations information improve than roughly cast of adaptive scheme. Instead it only seemed to a greater extent than consistent amongst the full general see of rationality that economists used all the time. Ricardian Equivalence was non successful because the information revealed that revenue enhancement cuts had no comport on on consumption - inward fact written report afterwards written report accept shown that revenue enhancement cuts exercise accept a meaning comport on on consumption.

Stagflation did non kill IS-LM. In fact, because empirical validity was thence primal to the methodology of macroeconomics at the time, it adapted to stagflation rattling quickly. This gave a boost to the policy of monetarism, but this used the same IS-LM framework. If you lot desire to respect the decisive final result that led to New Classical economists winning their counterrevolution, it was the theoretical realisation that if expectations were rational, but inflation was described past times an accelerationist Phillips crimp amongst expectations almost current inflation on the correct paw side, as well as then deviations from the natural charge per unit of measurement had to endure random. The fatal flaw inward the Keynesian/Monetarist theory of the 1970s was theoretical rather than empirical.