Macro’s Dissociative Identity Disorder

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In their introduction to The Coming of Keynesianism to America (1996), David Colander and Harry Landreth made an analytic distinction that has been featured in the GEM Project: “… it is useful to separate out a deep structure of a theory and what might be called a surface structure. The deep structure is the formal complex core of theory. The surface structure is the simple model or vision conveyed of that complex core to those who do not fully understand the complex theoretical core itself. Keynes’s revolution was a surface revolution with an underdeveloped complex core. Classical economics had a much more developed complex [market-centric] core, but a simple surface structure. A number of classical economists recognized the simple surface structure of classical economics was misleading, but their efforts concentrated on modifying the complex core. Their reaction to Keynes’s work is best seen in this light. It was a surface revolution that left many issues of the [general market equilibrium] core untouched. Young economists had yet to be imbued with the complex core of classical economics; they were more interested in surface issues, and to them the Keynesian revolution was a true revolution.” (p.13)

The late Paul Samuelson, constructing his Neoclassical Synthesis, drew attention to the surface-deep distinction. In telling the story, Samuelson (1986) begins with his initial resistance to Keynes’s General Theory. In particular, he recalls getting stuck on its assertion of equilibrium unemployment over the business cycle. He remembered much of his confusion being rooted in the role of labor-price rigidity. Why are employers reluctant to cut nominal wages? Would such cuts help eliminate high joblessness? Does labor-supply elasticity, influencing income loss associated with lowered wages, matter? Are workers even on their supply curve? Those issues seemed to him and most other Keynesians to be at the heart of the 20th-century macro challenge.

The debilitating problem is familiar. Nobody (including Keynes) could figure out how to wedge meaningful wage rigidity into continuous general-market-equilibrium modeling. The bookend problem was that theorists could not produce, absent microfounded MWR, involuntary job loss that is a rational response to adverse nominal demand disturbances. Free parameters would work but at the cost introducing troubling incoherence into macro modeling. Samuelson’s (pp.159-161) solution to that most difficult macroeconomic puzzle was characteristically practical: “The way I finally convinced myself was to just stop worrying about it…. I assumed a disequilibrium system, in which people could not get on the supply-of-labor curve.” Popularized by his dominant textbook, that relaxed view motivated the Neoclassical Synthesis which organized the first (Early) Keynesian mainstream of the postwar period. Its explicit function was to buy time for theorists to figure out how to introduce practical (demand-management) stabilization policymaking into deep macro theory. It was generally assumed, mistakenly, that it would not take long for somebody to figure out how to microfound MWR, suppress of labor-price recontracting, and permit coherence between micro- and macroeconomics.

Samuelson’s practicality differs from modern New Keynesians’ management of what is acceptable in mainstream research. After the revolution by the next generation of macro theorists that rejected EK thinking and produced the New Neoclassical Synthesis, deep-structure modeling became dominant. Academy gatekeepers isolated the evidence-friendly surface approach to undergraduate textbooks and applied macro analysis practiced at centers of stabilization authority. Surface NK models are held together by hybrid Phillips Curves constructed, at least implicitly, on the assumption of MWR that cannot be microfounded in the academy’s mainstream deep micro-coherent, market-centric general-equilibrium theory. Gatekeepers contain the influence of the practical surface NK analysis by insisting that debate and dissemination of cutting-edge research be demonstrably rooted in the deep neoclassical structure.

The ascendancy of deep-structure thinking in the mainstream development and use of macroeconomics has greatly damaged the academy’s efforts to provide useful policy guidance. That tragic outcome is unhappily illustrated by today’s supposedly serious advice to prevent future Great Recessions by focusing on preventing future financial crises. Prominent macro theorists argue that the best available stabilization strategy is some combination of restrictions on large banks: sharply increasing their requited capital, sharply decreasing their permissible activities, or simply breaking up the largest institutions. That advice is doomed to failure largely because it does nothing to disrupt nonstationary demand  mechanics that the GEM Project easily shows to be at the heart of modern episodes of extreme instability. The point of vulnerability to effective remedial policy in extreme-instability market failure is the propagation of the originating macro shock, whatever it may be, by contracting aggregate spending. The appropriate policy response is to strengthen authorities’ demand-management toolkit. History makes clear that the mainstream alternative, i.e., to prevent macro shocks, is a fool’s errand.

Why have so many of our best macro theorists decided to devote their careers to a fool’s errand? Because their market-centric consensus model class, within which they have agreed to operate and is intertwined with their professional reputations, cannot microfound MWR and therefore cannot assign aggregate-demand management, in both its stationary and nonstationary forms, its proper role in macro stability. The Early Keynesians understood the criticality of MWR, an obvious and vital characteristic of highly specialized economies. NK theorists must also know that. But they have been defeated by the difficulty of the longstanding problem and have implicitly agreed to retreat to a fairy-tale world in which MWR plays no role. What is unforgivable is that they insist that everybody else accept their make-believe. Modern mainstream gatekeepers no longer accept that microfounding MWR is an acceptable object of research, isolating wage rigidity and rents to surface models that are banned in serious debate and dissemination.

In concluding that the NK deep model and the EK surface model are fundamentally distinct, the profession is suffering from a kind of group dissociative identity disorder, a mental condition characterized by at least two distinct and enduring identities. DID behavior features memory impairment for important information not explained by ordinary forgetfulness. The GEM Project’s generalized-exchange macroeconomics uniquely provides an effective cure.

Blog Type: New Keynesians Chicago, Illinois

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