If The Mathematics Of Novel Keynesian Economic Science Were Solid...

Alexander Douglas has an interesting article on Modern Monetary Theory (MMT) as well as (mainstream) New Keynesian models. The enquiry is what happens if the economic scheme is at "full employment," as well as whether the MMT description is amend than the New Keynesian analysis. My answer is: why are nosotros having this verbal debate in the root place? If the mathematics of the New Keynesian Dynamic Stochastic General Equilibrium were fifty-fifty halfway equally rigourous equally their proponents claim, they could genuinely demonstrate their results mathematically, as well as non moving ridge their hands well-nigh vaguely defined concepts similar "full employment."

Alex Douglas inwards "More on Keynesianism, MMT as well as involvement rates":

Central banks, exterior the ZLB, bring the ability to continue the economic scheme at the total occupation grade amongst inflation at a target level. Given this, the New Keynesian conclusions follow, regardless of how the soil finances its spending.
It industrial plant similar this: if we’re exterior the ZLB as well as the fundamental banking enterprise is doing its job, we’re at total occupation amongst inflation on target. If the soil engages inwards novel deficit spending, the extra spending threatens to crusade inflation over target. To avoid this, the fundamental banking enterprise must heighten the involvement charge per unit of measurement to suppress plenty somebody spending to brand room for the novel populace spending.
It follows that populace deficit spending crowds out somebody investment, merely equally the textbooks say.

If We Assume Output Is Maximised...

Defining "full employment" is an interesting question. But allow us continue things simple, as well as assume that the electrical flow output is fixed at 100 "units," (which are a handbasket of goods as well as services, as well as is a existent quantity, non nominal)  of which twenty units are regime spending.

What happens if the regime increases its spending to last 22 "units"?

Since we assume that maximum output is 100 units, as well as at that topographic point is no argue for total output to fall, the implication is that somebody consumption drops to 78 units (from 80). The multiplier on regime spending to total gross domestic product is 0. All that has happened is that the regime portion of the economic scheme has increased, at the expense of the somebody sector (by definition).

Such an outcome is perfectly good understood past times Functional Finance (primer), as well as MMT largely follows Functional Finance. In other words, this is non a betoken that is disputed past times MMT (properly understood).

What If We Want To Model What Happens To Output?

 The analysis I bring inwards the previous department was plainly dodgy. Assuming that output is fixed at 100 units hardly makes sense, as well as does non fifty-fifty appear to last supported past times the mathematical framework used past times New Keynesian models.

What nosotros demand to practise is to genuinely run the total mathematical model, as well as come across how variables are affected past times the alter inwards regime spending.

This is the betoken where the hand-waving starts. Even if nosotros grant all of the plainly wrong assumptions embedded inwards New Keynesian models, I notwithstanding bring non seen a worked out solution. The green dodge is to linearise (model the effects of pocket-sized disturbances to the baseline scenario) -- which plainly is invalid, since nosotros are making a macroscopic alter to the baseline economical scenario. The green paw waving well-nigh changes to financial policy is to assume that monetary policy cancels it out (or Ricardian Equivalence does the job), as well as then nosotros tin ignore modelling its effects. (The scientific method inwards action!)

I realise that a fully worked out solution mightiness be somewhere. However, it is remarkably good hidden, given that it would last quite interesting to study. The reality that mainstream economists revert to paw waving well-nigh total employment, instead of genuinely demonstrating the results inside a simulation, reinforces my skepticism.

(c) Brian Romanchuk 2016