Where Macroeconomics Went Wrong

In my view, the respond is inward the 1970/80s with the New Classical revolution (NCR). However I also intend the novel ideas that came with that revolution were progressive. I receive got defended rational expectations, I intend intertemporal theory is the correct house to starting fourth dimension inward thinking close consumption, together with exploring the implications of fourth dimension inconsistency is rattling of import to macro policy, equally good equally many other areas of economics. I also think, along with nearly all macroeconomists, that the microfoundations approach to macro (DSGE models) is a progressive enquiry strategy.

That is why give-and-take close these issues tin mail away become so confused. New Classical economic science made academic macroeconomics receive got a number of big steps forward, but a twosome of big steps backward at the same time. The clue to the backward steps comes from the mention NCR. The enquiry programme was anti-Keynesian (hence New Classical), together with it did non desire microfounded macro to endure an choice to the together with then dominant existing methodology, it wanted to supersede it (hence revolution). Because the revolution succeeded (although the victory over Keynesian ideas was temporary), generations of students were taught that Keynesian economic science was out of date. They were non taught close the pros together with cons of the onetime together with novel methodologies, but were taught that the onetime methodology was just wrong. And that education was/is a job because it itself is wrong.

There had ever been opposition to Keynesian ideas, together with much (though non all) was ideological, such equally attempts to withdraw Keynesian textbooks from U.S.A. of America universities. However the NCR gave what should to a greater extent than just endure called ‘aggregate demand denial’ an intellectual respectability that it never deserved. The reasons for believing that shifts inward demand movement output together with occupation inward the brusk run together with prices are mucilaginous are overwhelming, so to deny both was a seemingly impossible task. It was achieved yesteryear adopting a methodological seat which could ignore inconvenient evidence.

I exercise non intend it had to endure similar this. Mainstream macroeconomics did non demand a revolution inward the 1970s together with 1980s. Ideas similar rational expectations could receive got been assimilated into the mainstream methodology, together with microfounded models could receive got been developed alongside to a greater extent than eclectic econometric models (SEMs, non VARs), or aggregate theoretical models that Blanchard together with Fischer rightly called ‘useful models’. Microfounded models could receive got shown the form of errors that tin mail away arise inward to a greater extent than empirically based models when theory is ignored or solely applied piecemeal, together with these empirical models could receive got highlighted the cardinal areas where additional microfoundations were needed.

I intend if this had happened, macroeconomics would receive got been meliorate prepared when the fiscal crisis hit. Take just 1 issue: the purpose of credit weather condition inward influencing consumption. This is clearly crucial inward agreement how consumption powerfulness respond to a credit crunch, nevertheless whatsoever machinery of this form was absent from most DSGE models inward 2008. However a to a greater extent than empirically based model of consumption would receive got had to address this upshot good before 2008, equally I debate here. If these types of models had continued to endure developed inside academia, rather than confined to the dustbin yesteryear the microfoundations revolution, together with then at to the lowest degree policymakers would receive got had something to locomote with. If in that place had been interaction betwixt empirical together with microfounded models roughly of the fiscal frictions literature that has flourished since 2008 powerfulness receive got appeared earlier.

So why didn’t this happen? Why did nosotros receive got a revolution which overturned an existing methodology together with temporarily banished Keynesian theory, rather than an adaptation together with augmentation of what was together with then mainstream? Was the attraction of overturning orthodoxy also strong, equally it is for a minority of heterodox economists today? Did an ideological imperative of dismissing Keynesian ideas play a role? To what extent was the hostile reaction of many inward the macroeconomic institution to eminently sensible ideas similar rational expectations responsible? Was the attraction of a methodology where at to the lowest degree yous could endure certain yous were consistent too enticing, maybe encouraged yesteryear increasing partition betwixt theoretical together with empirical macro? I would beloved to know the respond to these questions.