The Solar Daytime Macroeconomics Changed

It is of course of written report ludicrous, only who cares. The twenty-four hours of the Boston Fed conference inward 1978 is fast taking on a symbolic significance. It is the twenty-four hours that Lucas together with Sargent changed how macroeconomics was done. Or, if yous are Paul Romer, it is the twenty-four hours that the erstwhile guard spurned the ideas of the newcomers, together with ensured nosotros had a New Classical revolution inward macro rather than a New Classical evolution. Or if yous are Ray Fair (HT Mark Thoma), who was at the conference, it is the twenty-four hours that macroeconomics started to popular off wrong.

Ray Fair is a fighting of a hero of mine. When I left the National Institute to larn a formal academic, I had the goal (with the essential assistance of 2 first-class together with courageous colleagues) of constructing a novel econometric model of the UK of Britain together with Northern Republic of Ireland economy, which would comprise the latest theory: inward essence, it would endure New Keynesian, only amongst additional features similar allowing variable credit atmospheric condition to influence consumption. Unlike a DSGE it would every bit far every bit possible ask econometric estimation. I had previously worked amongst the Treasury’s model, together with and thence laid upward what is right away NIGEM at the National Institute past times adapting a global model used past times the Treasury, together with finally I had been inward accuse of developing the Institute’s domestic model. But creating a novel model from scratch inside 2 years was something else, together with although the academics on the ESRC board gave me the coin to produce it, I could feel that closed to of them thought it could non endure done. In believing (correctly) that it could, Ray Fair was 1 of the people who inspired me.

I concur amongst Ray Fair that what he calls Cowles Commission (CC) type models, together with I telephone weep upward Structural Econometric Model (SEM) type models, together with the unmarried equation econometric estimation that lies behind them, notwithstanding direct hold a lot to offer, together with that academic macro should non direct hold turned its dorsum on them. Having spent the finally 15 years working amongst DSGE models, I am to a greater extent than positive virtually their piece of occupation than Fair is. Unlike Fair, I want “more bells together with whistles on DSGE models”. I besides disagree virtually rational expectations: the UK of Britain together with Northern Republic of Ireland model I built had rational expectations inward all the telephone substitution relationships.

Three years ago, when Andy Haldane suggested that DSGE models were partly to blame for the fiscal crisis, I wrote a post that was critical of Haldane. What I thought then, together with popular off on to believe, is that the Bank had the information together with resources to know what was happening to banking concern leverage, together with it should non endure using DSGE models every bit an excuse for non beingness to a greater extent than populace virtually their concerns at the time.

However, if nosotros broaden this out from the Bank to the wider academic community, I intend he has a legitimate point. I direct hold talked before virtually the piece of occupation that Carroll together with Muellbauer direct hold done which shows that yous direct hold to intend virtually credit atmospheric condition if yous desire to explicate the pre-crisis fourth dimension serial for UK of Britain together with Northern Republic of Ireland or U.S. of America consumption. DSGE models could avoid this problem, only to a greater extent than traditional structural econometric (aka CC) models would abide by it harder to produce so. So perhaps if academic macro had given greater priority to explaining these fourth dimension series, it would direct hold been ameliorate prepared for agreement the touching of the fiscal crisis.

What virtually the claim that solely internally consistent DSGE models tin laissez passer on reliable policy advice? For closed to other project, I direct hold been rereading an AEJ Macro newspaper written in 2008 past times Chari et al, where they debate that New Keynesian models are non yet useful for policy analysis because they are non properly microfounded. They write “One tradition, which nosotros prefer, is to maintain the model really simple, maintain the break of parameters pocket-size together with well-motivated past times micro facts, together with pose upward amongst the reality that such a model neither tin nor should stand upward for most aspects of the data. Such a model tin notwithstanding endure really useful inward clarifying how to intend virtually policy.” That is where yous destination upward if yous accept a purist persuasion virtually internal consistency, the Lucas critique together with all that. It inward marrow amounts to the next approach: if I cannot empathise something, it is best to assume it does non exist.