Was The Neoclassical Synthesis Unstable?

This post presents a really uncomplicated story of the evolution of macroeconomic thought from Keynes until today. It is related to a recent response from Robert Waldmann.) 

Economics equally a scientific discipline that studies markets is ideologically neutral. Economic theory tin live used to back upwardly ‘unfettered’ markets, or it tin live used to justify interventions to avoid diverse kinds of marketplace failure. The old agency that it volition inevitably live used past times around to back upwardly a laissez-faire ideological position. There are ii checks against this one-sided presentation of economical theory: economists presenting alternative theories that embody imperfections, together with the role of evidence to demonstrate that a detail theory works, either inward terms of its assumptions or results.

Before considering macroeconomics, convey an instance from labour economics: the minimum wage. Standard competitive theory suggests a minimum wage volition cut back job together with heighten unemployment. Card together with Krueger undertook a famous study suggesting that inward 1 detail instance where the minimum wage was increased at that spot was no reduction inward employment. That led to a substantial amount of additional research, much (but past times no agency all) backing upwardly the outcome that the touching on of moderate increases inward the minimum wage on job was either non-existent or really small. For similar developments inward the UK, encounter this account past times Alan Manning. This empirical evidence was sufficient to encourage the evolution of alternative theoretical models: principally but non only monopsony.

So hither nosotros encounter theory together with evidence interacting inward a Popperian type way, hopefully leading to amend theory. [1] Yet with economic science at that spot volition ever live ideological resistance, together with then at that spot volition ever live those who desire to stick to the basic model together with who withdraw those empirical studies that back upwardly it. For the champaign of written report to survive, those ideologues receive got to live a minority. But fifty-fifty if this status is met, a salubrious champaign of written report has to recognise the influence of that minority, rather than essay together with pretend it does non be or does non matter.

There is a slight twist for macroeconomics. As governments are the monopoly providers of cash, together with provide a backstop to the fiscal system, they are involved inward the ‘market’ whether they similar it or not. Complete non-intervention is non an option: instead the side past times side best thing (from a laissez-faire indicate of view) is around sort of ‘neutral’ default policy rule, similar keeping the stock of coin constant.

The Great Depression was the empirical wake-up telephone weep upwardly (the equivalent of the Card together with Krueger study) for macroeconomics. So profound was the touching on of this empirical lawsuit that it led to a whole novel way of doing the subject. Keynesian economic science was methodologically dissimilar from much of microeconomics: it seat much to a greater extent than weight on aggregate evidence (through fourth dimension serial econometrics), together with much less on microeconomic theory. One way of putting this is that inward the 1960s, general equilibrium theory of the Arrow-Debreu-McKenzie type seemed a consummate contrast to what macroeconomists were doing. That an lawsuit equally powerful equally the Great Depression should receive got had such a profound methodological touching on is non actually surprising.

The Great Depression also meant that those advocating non-intervention had to brand an exception of macroeconomics. It was for the generation later the Great Depression abundantly clear that hither was a colossal marketplace failure. This is 1 feel inward which the term neo-classical synthesis tin live used: to allow the dry reason to fighting the marketplace failure represented past times Keynesian unemployment (albeit, inward the instance of Friedman, inward equally dominion similar way equally possible), but to maintain advocacy of non-intervention elsewhere. Note silent that this is a synthesis servicing a detail ideological indicate of view, rather than beingness anything inherent inside economic science equally a discipline.

Was this ‘ideological synthesis’ tenable with those supporting the ideology? There were ii natural tensions. First, the seat that macro intervention should live dominion based together with minimal was contestable. Second together with to a greater extent than importantly, equally the retentivity of the Great Depression faded (and neoliberalism spread), the temptation grew to inquire ‘do nosotros actually receive got to convey the demand for dry reason intervention at the macro level’. However I’m non sure the latter would receive got larn critical had it non been for around other tension inside macroeconomics itself. 

What was non tenable from a methodological indicate of stance was the distance betwixt the really empirical orientation of macroeconomics, together with the to a greater extent than axiomatic foundation of much of microeconomics. What was required hither was a dissimilar sort of synthesis, 1 which allowed for a salubrious dialogue betwixt theory together with evidence. My impression is that inward many areas of microeconomics this happened: that is partly why I gave the minimum wage example, but it is also worth noting that full general equilibrium theory lost the primacy that it powerfulness 1 time had with microeconomists. But these are impressions, together with I’ll happily live corrected.

I retrieve the same thing could receive got happened inward macroeconomics. Heterodox economists (and Robert Waldmann) would close for sure disagree, but I retrieve macroeconomics has gained a non bad bargain from the projection to add together microfoundations. Where I promise heterodox economists would handgrip is that a dialogue where theorists engaged with macroeconomics together with tried to persuade macroeconomists of the importance of next detail theories would receive got been healthy. But that was non the way it turned out. What could receive got been a dialogue of the Popperian sort became instead a theoretical together with methodological counter revolution. Instead of yell for ‘what tin nosotros arrive at to larn amend microfoundations for viscous prices’, the assertion became ‘without skillful microfoundations nosotros should ignore viscous prices’.

Why was at that spot a counter revolution inward macro rather than a Popperian dialogue? I retrieve it is hither that the instant tension inward the ‘ideological synthesis’ I identified inward a higher house is important. Those who wanted to dispute the demand for macro intervention realised that the microfoundations for macro marketplace failures that existed at the fourth dimension were miserable (adaptive expectations inward a traditional Phillips curve), together with and then whatsoever macroeconomics based on ‘rigorous’ (textbook, imperfection free) microfoundations would non live Keynesian. They also realised that they could create models which generated existent occupation concern cycles which were exclusively efficient. These models assumed all unemployment was voluntary, which inward whatsoever normal scientific discipline would atomic number 82 to their rejection, but inward an axiomatic based approach where around evidence tin live ignored it was acceptable.

New Classical economic science did non desire to improve Keynesian economics, but to overthrow it. It is really hard to believe this motivation was non ideological. Does the fact that this counter revolution was largely successful with academic macroeconomists imply that the bulk of macroeconomists shared this ideological outlook? I suspect not. What New Classical economists succeeded inward doing was framing the number equally 1 where a alternative had to live made, betwixt an eclectic empirically orientated approach where theory was weak together with empirical methods shaky, together with an alternative whose methodological foundations were solidly based inside the champaign of written report of economics. So nosotros moved from a seat where macroeconomics together with Arrow-Debreu-McKenzie seemed worlds apart, to 1 where at to the lowest degree some encounter the old arising naturally from the latter. Ironically this happened at the same fourth dimension equally many microeconomists saw Arrow-Debreu-McKenzie equally less relevant to what they did.

Of course of written report nosotros receive got moved on from the 1980s. Yet inward around respects nosotros receive got non moved really far. With the counter revolution nosotros swung from 1 methodological extreme to the other, together with nosotros receive got non moved much since. The admissibility of models silent depends on their theoretical consistency rather than consistency with evidence. It is silent seen equally to a greater extent than of import when edifice models of the occupation concern wheel to allow for the endogeneity of labour provide than to allow for involuntary unemployment. What this agency is that many macroeconomists who retrieve they are merely ‘taking theory seriously’ are inward fact applying a detail theoretical stance which happens to suit the ideology of the counter revolutionaries. The substitution to changing that is to showtime convey it.

[1] By Popperian type, I merely hateful that a theory proves inconsistent with information together with and then a amend theory is developed. The Popperian ideal where 1 slice of evidence (one dark swan) is plenty on its ain to disprove a theory is never going to apply inward economic science (if it applies anywhere), because evidence is probabilistic together with fragile. There are no dark swans inward economics.