Macroeconomic Consensus

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This post continues the GEM Blog’s 10-week examination of the state of stabilization policy-making. It is a favorite of mine, taking on an important, albeit unappreciated topic: the effect of economists’ consensus on macro policy outcomes. It begins with some insightful observations from Robert Lucas.

Lucas’s argument. Nearly four decades ago, in Issues and Ideas (Winter, 1980), Robert Lucas drew attention to a message implicit in early Keynesian modeling. There is a middle ground in the fundamental debate between socialism, the sort relying on centralized government control of resource allocation, and laissez-faire capitalism. He interpreted Keynes’s analysis to infer “that an economy cannot be left to its own devices but that all we need to do to manage it is to manipulate the general level of fiscal and monetary policy. If this is done right, all that elegant 19th century economics will be valid and individual markets can be left to take care of themselves.” Lucas too casually omits what Pigou taught us about externalities, but the omission does not invalidate the policy significance of the Keynesian middle ground.

For macroeconomists, Lucas’s still relevant assessment is that the Keynesian “middle ground is dead. Not because people don’t like the middle ground anymore but because its intellectual rationale has eroded to the point where it is no longer serviceable…. I think the problem in a nutshell was the Keynes-Samuelson view involved two distinct, mutually inconsistent theoretical explanations of the determinants of employment.” Completing the thought, Keynesianism is dead because its once-mainstream Neoclassical Synthesis never rationally suppressed wage recontracting and is, as a result, inherently incoherent.

Lucas understood that macro theorists, especially in the academy, have an inherent preference for model coherence over stabilization-relevance. If forced to choose, they will eventually toss policymakers under the bus. The early Keynesian choice of policy-relevance over micro-macro coherence was always understood to be temporary, providing some time to microfound the their keystone meaningful wage rigidity. Time ran out, and during the 1990s a New Neoclassical Synthesis was organized that reversed the early Keynesian priorities for acceptable model-building.

Lucas further understood that the reorganization of macroeconomics meant that there would no longer be economist consensus with respect to the nature and design of macro policy. Lucas is insightful on the consequences that follow from absent consensus. From Lucas in 1980: “The collapse of the center means the end of consensus economics – crackpot proposals like Humphrey-Hawkins or Roth-Kemp will get attention along with serious ones. There is no ‘establishment’ with influence to align the profession against them. I expect public debate to grow increasingly ideological, a reversion to pre-Keynesian lines of laissez-faire types versus socialist/fascist detailed interventionists. (Presumably both types will select fresher labels.)” I have real-time appreciation for the breakdown Lucas is describing. I wrote the Federal Reserve’s Congressional testimony on the original Humphrey-Hawkins bill and a few years later supervised the Congressional Budget Office’s careful analysis of the Roth-Kemp fiscal policy. In both cases, the eroding macro consensus in the academy constrained the capacity to squeeze evidence-consistent economics into the debates. I remember fearing a future when, absent the emergence of a new coherent, stabilization-relevant macroeconomics, the constraints provided by evidence-based mainstream thinking will have disappeared.

So I am not surprised that we are today in an alarming period of rebranded crackpot proposals, perhaps most alarmingly illustrated by the on-going Congressional effort to prohibit the tools used by Bernanke and the Fed in 2008-09 to pull the economy back from the brink of a devastating depression. In a related dangerous initiative, an apparent majority of the House of Representatives now believes that the U.S. should return to a gold standard, ignoring the thoroughly-documented inability of many wages and prices to adjust quickly if at all to disturbances in nominal demand. Most recently, the media and the public are simply ignoring that mainstream Presidential campaigns are today getting away with assertions about the economy that cannot possibly be true. Hand-waving economic magic is broadly accepted as unobjectionable in economic debate. Next week will provide more on the increasing recklessness of presidential campaigns.

For now, I want to emphasize what we already should know. One of the most important public responsibilities of macroeconomists is to establish, consistent with the evidence, a coherent stabilization-relevant consensus that aligns the profession against, using Lucas’s word, crackpot proposals.

A sidebar.  It is interesting that by 1980 Lucas had come to believe the coherence-vs-relevance choice was immutable: “For a time, we thought we could find a new theory that would unify or reconcile [the Neoclassical Synthesis short- and long-runs] – but the more progress was made the more difficulties came into view, dragging us further under. By now, it is fairly clear that the attempt is hopeless – that with hindsight, it was misleading from the beginning. As a result, new talent is not attracted to refining, developing Keynesian economics. That is what we mean by the ‘death’ of a scientific idea.”

There are multiple reasons for his incorrect diagnosis. I believe the keystone problem is the mainstream failure to step back and realize that they are arbitrarily, misleadingly restricting rational, price-mediated exchange to the marketplace. The use-by date on that assumption expired more than one hundred years ago. It is time to give it up, especially now that generalized-exchange macroeconomics has reconciled model coherence and stabilization-relevance. (Chapters 2 and 3) Given the absence of coherence has always been the singular worthwhile objection to the Keynesian use of wage rigidity to motivate the causal link from demand disturbances to involuntary job loss, the GEM Project enables mainstream theorists to incorporate Keynesian demand management into fully microfounded modeling, forging a new consensus that returns to being stabilization-policy relevant.

Blog Type: Policy/Topical Chicago, Illinois


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